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Full text of "Why energy prices should be deregulated: a report"

■1 nvy4. 



: 



95th Congress 1 
2d Session J 



COMMITTEE PRINT 



Com mittkk 
Print 96 68 



WHY ENERGY PRICES SHOULD BE 
DEREGULATED 



A REPORT 

PREPARED FOR THE USE OF THE 

SUBCOMMITTEE ON ENERGY AND POWER, 

COMMITTEE ON 

INTERSTATE AND FOREIGN COMMERCE 

UNITED STATES HOUSE OF REPRESENTATIVES 




OCTOBER 1978 



34-930 



U.S. GOVERNMENT PRINTING OFFICE 
WASHINGTON : 197S 



COMMITTEE OX INTERSTATE AND FOREIGN COMMERCE 



HARLEY 0. STAGGERS 
JOHN E. MOSS, California 
JOHN D. DINGELL, Michigan 
PAUL G. ROGERS, Florida 
LIONEL VAN DEERLIN, California 
FRED B. ROONEY, Pennsylvania 
JOHN M. MURPHY, New York 
DAVID E. SATTERFIELD III, Virginia 
BOB ECKHARDT, Texas 
RICHARDSON PREYER, North Carolina 
CHARLES J. CARNEY, Ohio 
JAMES H. SCHEUER, New York 
RICHARD L. OTTINGER, New York 
HENRY A. WAXMAN, California 
ROBERT (BOB) KRUEGER, Texas 
TIMOTHY E. WTRTH, Colorado 
PHILIP R. SHARP, Indiana 
JAMES J. FLORIO, New Jersey 
ANTHONY TOBY MOFFETT, Connecticut 
JIM SANTINI. Nevada 
ANDREW MA G UI RE, New Jersey 
MARTY RUSSO, Illinois 
EDWARD J. MARKEY, Massachusetts 
THOMAS A. LUKEN, Ohio 
DOUG WALGREN, Pennsylvania 
BOB GAMMA GE, Texas 
ALBERT GORE, Jr., Tennessee 
BARBARA A. MIKUL3KI, Maryland 



, West Virginia, Chairman 
SAMUEL L. DEVINE, Ohio 
JAMES T. BROYHILL, North Carolina 
TIM LEE CARTER, Kentucky 
CLARENCE J. BROWN, Ohio 
JOE SKUBITZ, Kansas 
JAMES M. COLLINS, Texas 
LOUIS FREY, Jr., Florida 
NORMAN F. LENT, New York 
EDWARD R. MADIGAN, Illinois 
CARLOS J. MOORHEAD, California 
MATTHEW J. RINALDO, New Jersey 
W. HENSON MOORE, Louisiana 
DAVE STOCKMAN, Michigan 
MARC L. MARKS, Pennsylvania 




W. E. Williamson, Chief Clerk and Staff Director 
Kenneth J. Painter, First Assistant Clerk 
Eleanor A. Dlnkins, Assistant Clerk 
William L. Burns, Printing Editor 

Professional Staff 

Ross David Aln 
Christopher E. Dunne 
William M. Kitzmlller 
Mark J. Raabe 
Thomas M. Ryan 
E. Berry, Minority Counsel 



mittee on Energy and Power 



JOHN D. DINGELL, Michigan, Chairman 



CLARENCE J. BROWN, Ohio 
CARLOS J. MOORHEAD, California 
JAMES M. COLLINS, Texas 
W. BENSON MOORE, Louisiana 
DAVE stockman, Michigan 
EDWARD R. MADIGAN, Illinois 
SAMUEL L. DEVINE, Ohio (ex officio) 



RICHARD L. OTTINGER, New York 
ROBERT (BOB) KRUEGER, Texas 
PHILIP K. BHABP, [ndiana 
ANTHONY TOBY MOFFETT, Connecticut 
HOB QAMMAOE, ' 
jonv M. MURPHY, New York 
DAVID E. SATTERFIELD III, Virginia 
timothy B.WIRTH, Colorado 
ANDREW MAGUIRE, Now Jersey 
MARTY RUSSO, Illinois 
EDWARD J. MARKEY, Ma achueetta 
DOUG WALGREN, Pennsylvania 
ALBERT GORE, Jb., Tennessee 
HARLEY <>. STAGGERS, West Virginia 
(ex officio) 

Ekank M. Potter, Jr., Staff Director and Counsel 

(ID 



LETTER OF TRANSMITTAL 



House of Representatives, 
Subcommittee on Energy and Power, 
Committee on Interstate and Foreign Commerce, 

Washington, B.C., October 18, 107S, 
Hon. Harley 0. Staggers, 

Chairman, Committee on Interstate and Foreign Commerce, 
U.S. House oj Representatives, 
Rayburn House Office Building, 
Washington, B.C. 

Dear Mr. Chairman: Professor Kenneth E. F. Watt, who has 
served as a consultant to this committee in the past, has produced a 
provocative paper entitled "Why Energy Prices Should Be Dereg- 
ulated", a copy of which is enclosed. 

Dr. Watt's central thesis is that high energy prices act to the advan- 
tage of the lower income segments of society. The correctness of this 
conclusion is not immediately apparent, and the thesis itself is the 
subject of considerable debate. I will say frankly that I find aspects of 
this troubling but, at the same time, I believe that the issue is one 
which we must address directly. 

It is in this light that I recommend Dr. Watt's paper be reprinted 
as a committee print and given wide distribution. It is my intention to 
convene hearings of the Subcommittee on Energy and Power at a later 
date to examine the questions Dr. Watt discusses in his paper. Publica- 
tion of this paper should assist in our efforts. 
Sincerely, 

John D. Dingell, Chairman. 
Enclosure. 

(ni) 



Digitized by the Internet Archive 
in 2013 



http://archive.org/details/whyenergypricessOOunit 



Why Energy Prices Should be Deregulated 
(Kenneth E. F. Watt) 1 

Given constant increases in the real cost of producing petroleum 
and natural gas in the United States, it is clearly an injustice to do- 
mestic energy producers for the government to impose an arbitrary 
ceiling on the prices they can receive. The conventional political jus- 
tification for this price regulation is that without it, there would be a 
deleterious impact on a large number of political constituencies, in- 
cluding labor, consumers, the poor and the middle classes. The stand- 
ard argument offered is that since energy is an input to the manu- 
facture of a wide array of goods, any increase in the price of energy 
would ultimately be reflected in an increase in the retail prices of all 
those goods. Consequently, the consumer price index would rise, con- 
sumer purchasing power would drop, and there would be a decline 
in the standard of living for Americans. 

This argument is based on an extremely simplistic view of the work- 
ings of the U.S. economy. Hereinafter it will be demonstrated that the 
conventional political rationale for low energy prices is simply false; 
in fact there are six different arguments as to why cheap energy penal- 
izes the very constituencies it is supposed to protect. 

The conventional argument overlooks the various types of adjust- 
ments to cheap energy that occur in the U.S. economy and in the 
linkage of the U.S. economy to other economies through the inter- 
national trade and international monetary systems. Figure 1 illustrates 
some of the causal pathways that will be discussed, and serves as a 
backdrop and introduction to the first three arguments for higher 
energy prices. This flow chart by itself is clearly only a complex hy- 
pothesis as to how part of the system responds to energy prices ; how- 
ever, data can be found which demonstrate the existence, of all the 
postulated causal pathways in this chart. Low U.S. energy prices dis- 
courage domestic energy production (causal pathway 1) but encourage 
consumption (2). These two phenomena jointly produce a shortfall 
in the U.S. energy production relative to demand (3, 4) which in turn 
stimulates energy importation (5). However, as energy importation 
increases, this stimulates the export of other commodities, particularly 
wheat, corn, soybeans, textiles, wood and raw metal, in order to 
balance U.S. trade with other countries (6). But the extent to which 
U.S. commodity exports can be increased depends on both the U.S. 
stocks of commodities available for export (13) and the stocks of com- 
modities in other countries (9). Many factors determine the size of 
these variables, in turn, but important system determinants are 

3 Kenneth Watt is a professor of zoology, and of environmental studies, and research 
systems analyst in the Institute of Ecology, at the University of California, Davis ; of 
course, all positions expressed in this article are his alone. 

(1) 



crop-growing weather in other countries (S) and in the United States 
(10), 'the acreage of crops planted in the United States (11), and tech- 
nology inputs to U.S. agriculture (12). Years when crop-growing 
weather is favorable, on average, outside the United States, world 
demand for U.S. crops will not be great enough for us to balance up 
our international trade (14). Thus, when U.S. energy prices are low, 
but also foreign demand for our crops is low, the U.S. trade deficit will 
be large (7). This causes U.S. money to accumulate in foreign banks at 
a rate in excess of the rate of demand for it (20), and the dollar drops 
in value relative to other currencies (21). This in turn increases the 
prices of foreign goods in the United States, and that has two bad 
effects: the U.S. inflation rate is increased (25) but also, sales of foreign 
goods in the United States weaken (27). 

This ultimately leads to a decrease in the rate of growth in foreign 
economies (28), which still further decreases their purchases of U.S. 
manufactured goods (29) which are already at a competitive disad- 
vantage because of the high cost of our labor, and the unsuitability of 
some of our products for foreign market (e.g., large, energy-inefficient 
cars). This, in turn, slows down the rate of growth in the U.S. econ- 
omy (30). But if U.S. energy prices are low, so that in some years our 
agricultural commodity exports are very large, but in other years good 
crop-growing weather elsewhere decreases foreign demand for our 
crops, this leads to a massive overhang of U.S. commodity stocks 
over domestic demand (17). This drops the price of commodities (19), 
farmers' earnings are lower than their costs (23) and there is a depres- 
sion in the farm sector which spills out to the rest of the economy if it 
persists (22). However, if crop-growing weather in other countries is 
bad, there is a tremendous drawdown in U.S. commodity stocks 
because of massive exports (17), the domestic commodities prices rise 
(19) and this can trip an inflation (24). 



hats of u.s. 
piidihjctio;! 



HABITUDE OF 


5 


VOLUME 


OF U.S. 


SHORTFALL IN U.S. 


16/ 




'.OCT IOt J 
RELATIVE : 




7 








Figure l.— Flow chart illustrating some of 1 1 1 < - effects of U.S. energy prices on 
the [j.s, e :onomy operating throughout the international trade and monetary 
-ms. 



This chart brings out two most curious consequences of low energy 
prices in the United States. They always have an inflationary effect. 
If our crop exports are large, inflation is affected by increased food 
costs (24). If crop exports are small, the inflationary impact comes 
from increased prices of foreign goods in the United States (25). 
These are only two of the inflationary impacts of cheap U.S. energy 
prices. Others are found in other flow charts. Jay Forrester of M.I.T. 
has pointed out that complex systems often behave in a "counter- 
intuitive" fashion because it is difficult for the human mind to visualize 
the ultimate consequences of long chain causal pathways. 

The other curious phenomenon revealed by this flow chart is that 
cheap U.S. energy prices render the economy remarkably sensitive to 
a number of phenomena produced by crop-growing weather in major 
prospective consumers of U.S. food, particularly Russia and China. 
This is particularly significant, because crop-growing weather in some 
other countries, and hence, crop production is much more volatile 
from year to year than in the United States. Thus, by keeping energy 
prices low in the United States, we create the surprising situation in 
which short-term fluctuations in the economy are made extraordinarily 
sensitive to a powerful and violently fluctuating destabilizing force: 
crop growing weather in countries with unstable crop growing weather. 
Much of the surprising behavior of the U.S. economy since we began 
importing vast quantities of crude oil is traceable to this situation. 

With this flowchart as a backdrop, we now consider six arguments 
against low energy prices, using illustrative data from standard 
U.S. Government statistical sources. 

Argument 1: The impact of cheap energy on the purchasing power 
of the poor and the middle classes. Elemental common sense tells 
us that if the price of energy is kept artificially low by the Govern- 
ment, this will encourage Americans to use it, but also discourage 
domestic producers from producing it. Thus, low domestic energy 
prices simply result in a discrepancy between production and con- 
sumption, which gradually increases as the purchasing power of 
Americans increases relative to the retail price of energy. This short- 
fall is met by gradually increasing petroleum imports. But a country 
is like a family: on balance, over time, it must sell goods and services 
at roughly the rate at which it buys goods and services. Therefore, as 
the United States has increased its imports of petroleum, it has had 
to increase its exports of other items to raise the money needed to pay 
for the oil. The reason for the economic and political problems related 
to petroleum pricing is that few Americans inside or outside Govern- 
ment grasp the full implications of the massive export required to pay 
for the imported oil. 

Table 1 reveals the impact that increasing crude oil imports have 
had on the U.S. balance of trade with other countries, and shows how 
various categories of U.S. exports to other countries have increased 
to compensate for this increasing importation from O.P.E.C. coun- 
tries. The table brings out two key facts. First, the increase in the 
cost of oil imports from 1970 to 1976 has been very great: about 
$28.3 billion dollars. The other fact is less well known. Most people, 
thinking of the United States as a major manufacturing nation, would 
expect this increase in imports of crude oil to be paid for largely by 
increase in exports of manufactured products. This assumption is 
based on a lack of awareness of the intensity of the competition the 
United States now faces in world markets from West Germany, 



Japan, and other manufacturing nations. Thus, we see in the table 
that only about $9 billion of the increased fuel costs could be covered 
by an increase in exports of all manufactured goods and chemicals. 
In fact, over $10 billion of the increase in fuel import costs was paid 
for by an increase in U.S. exports of just a few raw commodities, par- 
ticularly wheat, corn and soybeans. But there has also been a great 
increase in net exports of a wide variety of other raw commodities 
from the United States: Textiles, wood and metal ores and scrap. Too 
little attention has been given to the consequences for the U.S. econ- 
omy of all these massive, and gradually rising exports. In fact, as 
figure 2 shows, the consequences are remarkably pervasive throughout 
the economy. They include food prices, land prices, and effects on 
city densities and the relative economic attractiveness of various types 
of transportation systems. 

It is interesting to track the impact of massive crude oil imports 
through the economic system so as to reveal the way in which these 
affect the standard of living of the typical American family. Using 
nothing but routinely-published Government statistics, we do this 
in table 2. As the real price of drilling for U.S. crude oil (price cor- 
rected for inflation) increased, it became increasingly uneconomic, 
in the face of Government price regulation, to supply the U.S. market 
with domestic crude oil. Consequently, the U.S. oil market was in- 
creasingly supplied with foreign, as opposed to domestic crude oil. 
Consequently, the U.S. oil market was increasingly supplied with 
foreign, as opposed to domestic crude oil (third column). One of the 
means used to pay for this was wheat exports, which accordingly 
rose (fourth column) in years when other countries had major crop 
production shortfalls. This meant that in the years following 1972, 
great increases in crude oil resulted in a drawdown of U.S. domestic 
stocks of commodities, as illustrated by the wheat stocks statistics in 
column five. This was because between 44 and 73 percent of the wheat 
being grown each year in the United States was being exported to pay 
for imported crude oil. Consequnetly, years when there was a par- 
ticularly heavy export of wheat, as between 1972 and 1975, there was 
a great increase in the price of wheat. Thus, from 1972 to 1974, the 
price of wheat per bushel increased b}' 2.32 times. This, in turn, trans- 
lated into a higher U.S. food cost for the typical family (last column). 
Where food had only taken 39 percent of the average family spendable 
earnings in 1972, it took 47 percent in 1974. In short, "cheap energy" 
is an illusion. By keeping the cost of domestic crude oil down, the 
Government simply plays the crudest type of political hoax on the 
electorate. Energy becomes more costly than it would have been if 
the price had been deregulated, but the family pays for energy every- 
where except at the pump island. The same phenomenon as revealed 
for food costs in this table is found for housing and clothing. 



TABLE 1— RELATIVE ROLES OF MANUFACTURED PRODUCTS AND RAW MATERIALS IN MAINTAINING THE U.S. 
TRADE BALANCE IN THE FACE OF MASSIVE INCREASES IN CRUDE OIL IMPORTS 

[All amounts in billions of dollars) 







Value of- 






Increase (+) or 

decrease (— ) 

in net U.S. 

trade balance. 

1970 to 1976 


Item 


1970 U.S. 
exports 


1970 U.S. 
imports 


1976 U.S. 
exports 


1976 U.S. 
imports 


Mineral fuels and related materials 

Machinery and transportation equipment. 
Other manufactured goods .. 


1.595 

17.882 

7.636 

3.826 


3.075 
11.172 
13.285 

1.450 


4.226 
49. 510 
17.777 

9.958 


33. 996 

29. 824 

30. 179 

4.772 


-28.291 
12.976 
-6.753 


Chemicals 


2.810 


Subtotal, manufactured goods and 










9.033 














Wheat and flour 


1.112 ... 
.824 ... 
1.216 ... 




4.041 .. 




2.929 




5.223 .. 




4.399 


Soybeans 

Textiles 


3.315 .. 




2.099 


.543 


.202 


1.426 


.249 


.836 


Subtotal, renewable resources 










10.263 















Note: Data from tables 1478 and 1479, Statistical Abstracts of the United States for 1977 



34-930— 7* 



6 

Figure 2. — Flow chart illustrating the systemic effects of massive raw commodities 
exports on the U.S. economy. In the chart, wheat is used as a surrogate variable 
to represent the kinds of effects introduced by increasing exports of a wide 
range of commodities, including corn, soybeans, rice, wood products and textiles. 
This type of chart not only can be used to explain the causal pathways in the 
system ; it can also be used as the basis for building computer models to mimic 
the consequences of low energy prices on the economy. This chart illustrates 
only one of a variety of classes of effects of low energy prices; other parts of 
the model mimic the effects on unemployment and crime rates, pollution, invest- 
ment, taxation and economic growth rates, etc. 



CCHKSTTE wswi:e» «£* (CUAI 






- - 1 - • t • » i:it« nrl»ble 


CAUSAL 0WA.1 OF -5PECJIJTER" MCEL 
AS OF JUI.T 1. 137j 
iblf 


:.. 


r.:<otet e>:;.-ojs «*<-u;!e 


UrUer veriiors of EM SPECULATE!) ciu^il iii;m -i r 





.-.•■, -,,-. ---.I :- ;:i-i 


- t. Watt t: il, "A S'cuUtiwi of i — In »l :■*■ tni 




■ 


- i. fount •'- il, "A 5leiUt1oii ProfW tualnintf •_■- CluMlitli 
jnd ■.■•cm Rtlatlontntpf S'tiii'.es -.o CM InttnutlOMl ^r; 
SoiMnli, A'joull :S-i9. 1975. 



• lit 5J!*:i«t:i. 

t)ricu1Cur«, "- 



TABLE 2.-IMPACT OF GOVERNMENT ENERGY PRICE REGULATION ON THE PURCHASING POWER OF THE 

TYPICAL FAMILY 





Average cost 














per foot to 










Average weekly 




drill for oil 


Value of imported 


Wheat exports 


U.S. 


stocks of 


food cost as a 




and gas in the 


petroleum pro- 


from United States 


wheat, June 1 


percentage of 




United States 


ducts (billions of 


(millions of 


(millions of 


average spendable 


Year 


(1972 dollars) 


dollars) 


bushels) 




bushels) 


weekly earnings 


1965. 


18.09 


2.09 


852 




921 


43 


1970. 


20.61 


2.76 


741 




982 


41 


1972.. 


20.76 


4.30 


1,135 




983 


39 


1973.. 


21.27 


7.61 


1,217 




597 


45 


1974... 


24.85 


24.29 


1,019 




340 


47 


1975.... 


29.06 


24.81 


1,173 




435 


46 


1976... 




31.79 


950 




664 


43 



However, while the trend in food, clothing and housing is for these 
budget items to take a progressively larger percentage of average 
spendable weekly earnings, that trend is obscured by deviations 
about the trend produced by variations in crop-growing weather in 
countries that are prospective customers for U.S. commodities. 
Thus, it will be noted that the percentage of spendable earnings taken 
by food declined from 1974 to 1975, and again to 1976. 

Table 3 gives more understanding as to why there should be fluctu- 
ations about a gradually rising trend line in the last column of table 2. 
Table 3 shows how we can project a trajectory for the most likely 
foreign demand for U.S. wheat each year, on the basis of historical 
data. Differences between actual demand, and this projected trajectory 
of likely demand account for year-to-year fluctuations in the U.S. 
price of food. Table 3 shows how, in turn, these fluctuations can be 
traced back to fluctuations in food production in other countries, which 
in turn are largely the product of fluctuations in crop-growing weather. 
The second column gives the trend in world population, exclusive of 
the United States of America. The third column computes a likely 
trend in world per capita demand for wheat, exclusive of the United 
States, on the assumption that that trend is a simple linear function 
of gross world product each year. The fourth column gives world per 
capita likely what production, on the assumption that that trend is 
a simple linear function of year number. 

The fifth column gives a likely trend in foreign demand for U.S. 
wheat, computed from world population multiplied by the difference 
between per capita wheat demand and production (from the previous 
two columns). The sixth column gives actual U.S. wheat exports. 
The difference between actual wheat exports, and the trend in likely 
foreign demand for U.S. wheat is in the seventh column. Prior to 
1972, this difference was large, because prior to the great increase in 
U.S. imports of O.P.E.C. crude oil, it was not necessary for the 
United States to export vast quantities of agricultural commodities 
to balance up its international trade, and further, there was |an 
insuficient market for U.S. wheat amongst nations able to pay for it. 
This market was created with the Nixon understandings with Moscow 
and Peking. After 1971, discrepancies between actual wheat exports 
and likely exports can be accounted for on the basis of fluctuations in 
the wheat harvests in world major wheat-growing countries, partic- 
ularly the Soviet Union. Thus, the big surge in actual exports relative 
to likely expected exports in 1973 is attributable to a shortfall in 
Russian wheat production in 1972 (see table 6). 





Per capita non- 


In 


millions of bushels 


Non-U.S. 






Actual U.S. 


world 


U.S. worl 


d wheat 


Foreign 


Actual U.S. 


wheat exports 


population 


demand produc- 


demand for 


wheat 


less foreign 


(millions) 


tion (bushels) 


U.S. wheat 


exports 


demand 


3,225 


3.25 


2.99 


839 


761 


-78 


3,286 


3.31 


3.03 


920 


544 


-376 


3,362 


3.37 


3.06 


1,042 


606 


-436 


3,430 


3.41 


3.09 


1,098 


741 


-357 


3,502 


3.44 


3.13 


1,085 


610 


-475 


3,576 


3.49 


3.16 


1,180 


1,135 


-45 


3,648 


3.49 


3.19 


1,094 


1,217 


123 


3,720 


3.54 


3.23 


1,153 


1,019 


-134 


3,795 


3.58 


3.27 


1,176 


1,173 


-3 


3,871 


3.61 


3.30 


1,200 


950 


-250 


3,948 


3.65 


3.33 


1,263 


1,145 


-118 



8 

TABLE 3.-C0MPUTATI0N OF LIKELY TREND IN FOREIGN DEMAND FOR U.S S WHEAT, AND DIFFERENCE BETWEEN 
THIS TREND AND ACTUAL U.S. WHEAT EXPORTS 



Year 

1967... 
1968... 
1S69... 
1970... 
1971... 
1972... 
1973.. 
1974.. 
1975... 
1976... 
1977... 

At the beginning of this discussion, it was asserted that common 
sense indicates that low energy prices would encourage energy use, but 
discourage energy production. What does the evidence say? First, with 
respect to the effect of energy price on use within the United States, 
energy prices have never increased enough to have any discernable 
impact on use. As table 4 indicates, retail gasoline prices are actually 
lower now, relative to average spendable weekly earnings, than they 
were in 1965. To discover the likely impact of any significant energy 
price increases on U.S. energy use, we have to turn to comparative 
international data. However, to expose the effect of energy prices on 
use per capita, it is not adequate to simpty use the price: we must use 
the price corrected for the ability to pay that price. Thus, in figure 3, a 
plot of gasoline use per capita as a function of price, there is only a 
slight relationship (the fitted line is based on the data for all countries). 
However, when the price of gasoline is expressed as a proportion of 
GXP per capita as in figure 4, a very striking dependence of use on 
price is revealed. These two graphs reveal an important point about 
U.S. energy policy: it is meaningless to increase energy prices by a 
factor of two, in the name of conservation, over a sequence of years in 
which average spendable earnings are increasing by a factor of three. 
This would actually increase the use of gasoline. There will be no real 
energy conservation in the United States until energy prices are 
allowed to increase at a faster rate than wages. Figure 4 also indicates 
how low U.S. energy prices are relative to those in other countries, 
including Sweden, which has a GNP per capita higher than in the 
United States. Clearly, the argument that higher energy prices would 
be inimical to economic growth needs examination. 

TABLE 4.— INCREASE IN GASOLINE PRICES, RELATIVE TO THE INCREASE IN AVERAGE SPENDABLE WEEKLY 

EARNINGS 

Average spendable 

weekly earnings, 

worker in private 

Retail price index, nonagricultural Price of gasoline 

regular and pre- industry with 



Year mium gasoline 1 3 dependents 2 Average earnings 

I960 92.5 73.0 1.27 

1965 . . 94.9 86.3 1.10 

1970"". 105.6 104.6 1.01 

1971 " 106.3 112.4 .95 

1972""."".".".::.".::/..""...::.".-.".". 107.6 121.1 .89 

1973 — H8.1 127.4 .93 

1974. 159.9 134.4 1.19 

1975 " j 170.8 145.9 1.17 

1976 " 177.9 156.5 1.14 

1977.:::::::::::::::: 189.2 182.7 uh 

1 From table 784, Statistical Abstracts of the United States for 1977, 

iFrom table 666, Statistical Abstracts of the United States for 1977 



GASOLINE 


1.0 


i 
g 


USE 

PER CAPITA 




8 

7 
6 
5 


IN 




4 


METRIC TONS, 




\i 


IN 1970 








.1 


1 
S 
8 
7 
6 
5 
4 

3 
2 



.01 



U.S.A. 




• 






Sweden 

• 


Austria 


I 


--^ 


• Italy 


\_ 




"-•-..^ 






-Greece 


Thailand 
• 






Tunisia 


Indonesia 


© 


• 




Zaire 

• 


• 




Malawi 




India 




• 







.001 

1 10 100 

PRICE OF 100 LITRES OF GASOLINE 
IN U.S. DOLLARS, IN 1970 

Figure 3. — The relation between gasoline price and use per capita: cross-sectiona 
analysis across countries. Based on statistics published by the Internationa 
Road Federation. 



10 



GASOLINE 

USE 

PER CAPITA 

IN 

METRIC TONS, 

IN 1970 



1.0 



.01 1 

9 
8 
7 
6 
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1.0 



PRICE OF 100 LITRES OF GASOLINE AS A PROPORTION OF 
GROSS NATIONAL PRODUCT PER CAPITA, 1970 

Figure 4. — The relation between energy price and use per capita, when price is 
corrected for ability to pay for gasoline. 

Now what of the argument that low energy prices discourage pro- 
duction? First, we consider traditional sources of energy. In table 5 
we see that while there has been a large increase in the price per barrel 
of crude oil at the well (column 2) , this increase has been no more than 
that justified by the increase in cost per foot to drill for oil (column 3). 
Thus the ratio of price to cost is essentially the same in 1975 as it 
was in 1960. In other words, there is no more profit to drill for oil in 
the United States now than there was in 1960. So we simply do not 
know what would happen to the rate of oil production in the United 
States if the price of crude oil were to rise faster than drilling cost: No 
one has yet done the experiment to find out. However, table 5 does not 
reveal the complete story of the situation in which oil producers find 
themselves. Oil exploration and production will increasingly shift from 
onshore to offshore. While onshore costs of drilling for oil only in- 
creased by 2.03 times from 1960 to 1975, offshore costs increased by 
2.58 times. In other words, the oil (and gas) industries will be forced 
to move to offshore sites as onshore sites are depleted, but the offshore 
exploration is far more capital intensive. Higher profitability for oil 
and gas producing companies can be regarded as an obscene and 
grossly inequitable redistribution of the capital in the United States; 



2.88 


13.01 


0.22 


2.86 


13.44 


.21 


3.18 


18.84 


.17 


3.39 


20.76 


.16 


3.89 


22.50 


.17 


6.74 


28.93 


.23 


7.67 


36.99 


.21 



11 

but given the likely future of the industry, a far more reasonable inter- 
pretation is that the industry needs to be more profitable in order to 
raise the capital that will be necessary to fund the enormously ex- 
pensive program of energy exploration and development that is on the 
way. 

TABLE 5.-INCREASE IN THE AVERAGE PRICE OF A BARREL OF CRUDE OIL, RELATIVE TO THE AVERAGE COST PER 

FOOT TO DRILL FOR OIL 

Average price of 

Averate price per a barrel of crude 

barrel of crude Average cost per oil relative to 

Year oil at the well foot to drill for oil cost to drill 1 ft 

1960 

1965 

1970 

1972 

1973 

1974 

1975 

But there is another reason for raising energy prices. There is much 
talk about the need to develop new energy technologies, such as solar 
and wind power. However, these developments will be inhibited unless 
energy prices rise to a level at which they will be sufficiently attractive 
to risk capital. As long as energy prices are kept down by regulation, 
new energy technologies will be an uncertain investment. 

Argument 2: The impact of cheap energy on U.S. economic stability. 
Many people will have noticed that within the last few years, the U.S. 
economy has developed an alarming tendency towards large, and un- 
expected economic fluctuations. In 1974, agricultural commodities 
prices were unusually high, and there was a tendency to inflation 
radiating outwards from the commodities sectors of the economy. But 
by 1977, there had been a great drop in the value of agricultural com- 
modities. Farmers were going bankrupt, because they could not sell 
enough of their commodities, or get high enough prices to allow them 
to pay for their inputs. But also, there was a deterioration of the U.S. 
trade balance, the United States could not sell enough to pay for im- 
ported crude oil, U.S. dollars were piling up, unwanted, in many other 
countries, and the value of the dollar was dropping fast relative to a 
number of other currencies, particularly Japanese Yen, Swiss Francs, 
and German Marks. How did this come about? 

If the Government keeps the price of energy down, thus stimulating 
massive oil imports, this means that the health of the U.S. economy 
becomes sensitive to two other factors. First, we must be able to pro- 
duce enough goods for export to pay for the imported oil. But second, 
other countries must have the demand for enough of our exports for us 
to raise the cost of the crude oil bill from O.P.E.C. But in turn, the 
demand of other countries for our agricultural produce depends upon 
the ability of prospective customers for our food to produce that food 
themselves. This in turn, is dependent on their crop-growing weather. 
But particularly in some of the communist block countries which may 
import massive quantities of our food in certain years, their crop- 
growing weather is extraordinarily volatile, because their principal 
crop growing regions are in the center of massive land masses remote 
from the moderating effects of oceanic currents and wind systems. 



12 

Table 6 indicates just how variable crop production is in various 
countries. Notice, first, that the absolute amounts of food grown in 
other countries are very large relative to the total amount of food the 
United States can grow. Thus, the largest Soviet wheat crop was 89 
percent higher than the largest U.S. wheat crop. But further, the 
crop production shortfalls in other countries can be very large relative 
to the largest crops the United States has ever produced. Thus, the 
decrease in the Soviet wheat crop from 1973 to 1975 was equal to 75 
percent of the largest wheat crop the United States has ever pro- 
duced. This means that if the United States, on average every year, 
must produce enough of a crop surplus to pay for imported crude oil, 
some years we will have produced way too much, and other years we 
will have produced way too little. Either of these eventualities throws 
a gigantic perturbation into the U.S. economy. 

TABLE 6— VARIABILITY IN PRODUCTION OF SOME OF MAJOR WORLD CROPS 
[All figures in millions of metric tons] 









U.S.S.R. 


Mainland Chi 


na 


India 


United States 


Year 


Wheat 


Corn 


Wheat 


Rice 


Corn 


Wheat 


Rice 


Wheat 


Corn 


1975 






66.2 


7.3 


41.0 


116.3 


33.1 


24.1 


74.2 


58.1 


147.3 


1974.. 






83.9 


12.1 


37.0 


115.2 


31.1 


21.8 


59.4 


48.9 


118.1 


1973.. 






109.8 


13.4 


36.0 


112.0 


30.4 


24.7 


66.1 


46.4 


143.4 


1972.. 






86.0 


9.8 


34.5 


101.0 


23.5 


26.4 


58.0 


42.0 


141.1 


1971.. 






98.7 


9.5 


32.0 


104. . 




23.3 


64.0 


44.6 


HO. 8 


1970 _ 






99.5 


10.3 . 




100. . 




20.1 


63.7 


37.5 


104.4 


1969.. 






79.9 


13.2 


27.0 


91.0 . 




18.7 


60.7 


39.7 


116.3 


1968.. 






93.4 


8.6 


25.7 


92.0 . 




16.5 


59.7 


42.8 


111.2 


1967.. 


Difference in 


production be- 


77.3 


9.1 


25.7 


88.0 . 




11.5 


47.7 


41.5 


119.9 
























tween most and least produc- 






















tive year... 




43.6 


6.1 


15.3 


28.3 


9.6 


14.9 


26.5 


20.6 


42.9 



Table 7 suggests some of the kinds of perturbations that can be 
introduced into the U.S. economy by various combinations of crop- 
growing weather conditions throughout the world. Clearly, bj T keeping 
energy prices low and thus stimulating massive energy importation 
and massive food export, Congress makes the U.S. economy very 
sensitive to violent short-term economic fluctuations triggered by 
crop-growing weather in other countries, particularly Russia. 

Of course, these violent economic fluctuations produce some utterly 
unexpected consequences. Many U.S. corporations have recently been 
bedevilled with foreign exchange currency translation losses. These 
losses occur when a company sells a product in the U.S. imported 
from elsewhere, but then has to pay the producer when the U.S. 
currency has dropped in value relative to the currency in which final 
payment is made. In effect, the U.S. corporation is trapped into selling 
cheap and buying dear, due to circumstances completely beyond its 
control. These circumstances are changes in the rate at which the 
U.S. dollar is dropping in value relative to other currencies, produced 
by changes in the rate at which we are exporting commodities to pay 
for imported crude oil; the ultimate causes are changes in the amount 
of crop shortfall produced in other countries in response to changes in 
their crop-growing weather. 01' course, this crop-growing weather can be 
neither predicted nor managed. Thus by keeping energy prices down, 
Congress and the White House are turning the management of U.S. 



13 

enterprises into a vast game of chance. This is true for an enormous 
diversity of activities, including Exxon, the farm sector, the importer oi 

European sporting goods, or of German stained glass. 

TABLE 7.— IMPACT OF WEATHER ON ECONOMIC SCENARIOS FOR THE UNITED STATES 





Crop-growing 










Tendency to 




Crop-growing 


weather in 








Value of U.S. 


depression 


Approximate 


weather in 


countries 




U.S. domestic 


U.S. com- 


dollar relative 


radiating out- 


probability 


United 


importing 


U.S. crop 


commodity 


modity price 


to other 


ward from 


of this 


States 


U.S. crops 


exports 


stocks 


inflation 


currencies 


agriculture 


scenario 


Good 


. Good., 


. High 


. Very high 


Little 


. Dropping 


. High.. 


. 0.55. 


Good 


Bad 


. Very high.. 


_ Very low... 


Serious 


. Stabilizing ... 


. None. 


. 0.36. 


Bad.... 


. Good 


. Very low.. 


. Low 


Serious 


. Drooping 


Moderate .. 


. 0.01. 


Bad 


. Bad 


. Low 


. Extremely low. 


Very serious. 


. Stabilizing 


. Moderate .. 


. 0.08. 



Conclusion: Congress, by keeping energy prices so low as to encourage massive importation of crude oil, makes the 
U.S. economy very sensitive to violent economic fluctuations between inflation and depression. 

Argument 8: The impact of cheap U.S. energy on the world econo- 
my. In years when the United States cannot export enough food to pay 
for imported crude oil, U.S. dollars accumulate in other countries 
because they cannot buy enough from us to use up all the dollars we 
have spent buying the crude oil. (This is an oversimplification of the 
situation, but in essence it is correct. Complications occur, as when 
Saudi Arabia sells unwanted U.S. dollars for gold, and the dollars are 
used, ultimately to purchase U.S. wheat). When these dollars ac- 
cumulate, their value drops relative to the value of other currencies. 
This, in turn measn that a Volkswagon, Toyota, Sony, Rolls Royce 
jet engine or A300B airbus costs more in the United States. That, 
in turn means that all other factors remaining constant, we would 
be less likely to buy the foreign product. That is serious, because 
many foreign economies are more dependent on export markets than 
the United States, because their national populations are not large 
enough to give them significant and competitive economies of scale m 
manufacturing. Thus, enough of a drop in U.S. purchases of German, 
Japanese and other products could lead to significant slowdowns in 
their economies, and ultimately, a significant slowdown in the world 
ecomomy, including the U.S. economy. In short, cheap energy in the 
United States has implications which go far beyond the internal 
dynamics of our own economy. We cannot, on the one hand, expect 
Germany and Japan to keep the world from sliding into a new re- 
cession, yet on the other hand adopt an energy price policy which 
makes it impossible for them to sell enough to us to prevent that from 
happening. Our failure to grasp this is the root cause of a lot of the 
criticisms of our economic management so frequently expressed by 
foreign business and Government leaders and reported in the Wall 
Street Journal and elsewhere. 

Argument 4' The impact ofc heap U.S. energy on resource sub- 
stitution. When Congress continually votes to keep energy prices 
low, but to allow the minimum wage to rise, they are simply voting 
for a substitution of the cheap energy for expensive labor. In turn, this 
means they are voting for all the other phenomena that accompany 
that substitution: high rates of unemployment and crime, high costs 
for unemployment insurance and police protection, high costs of 
operating Government, an inefficient economy and a low rate of 
economic growth. None of this is theory: Each step in the implied 



14 

arguments can be demonstrated by statistical analysis of available 
data. Thus, in making comparisons between countries, we find that 
high crime rates accompany cheap energy. 

Argument 5: Cheap energy and the survival of the United States. 
Normally, as the real cost of producing petroleum increased, this 
would be converted into a signal to the marketplace, in the form of 
higher retail prices. That signal, in turn, would have several effects, 
besides conservation. One effect would be to intensify the search for 
existing energy sources (oil, gas, coal). Another effect would be to 
stimulate research and development for new energy sources and tech- 
nologies. However, by keeping energy prices artificially low, Congress 
and the White House prevent such a message from being flashed to 
the marketplace. That, in turn means, that when the United States 
begins to run short of conventional sources of cheap energy, there will 
be a mad scramble to develop and find energy sources for which the 
search should now be underway. But can we make up the lost time 
under crisis conditions? This, in turn raises the question as to how 
long it takes to get new energy technologies in place. In fact, as 
figure 5 shows, it has taken a very long time indeed to get new tech- 
nologies in place. The times it took before coal, oil and gas supplied 
30 percent of U.S. energy consumption were 72, 78 and 69 years, 
respectively. So the times were not only remarkably long, they were 
remarkably similar. The reason is that the rate at which a national 
population of energy generating plants of a particular type can be 
built up is limited by a thermodynamic constraint. If the population 
builds too rapidly, too high a proportion of the entire population has 
just been constructed or is under construction. In that case, there 
would be no net energy or money output from the entire national 
population of plants. Thus, a problem with a national policy of keeping 
energy prices down is that we might get caught in a "systems trap" 
in 10 or 20 years: We might get trapped into trying to build new 
energy generating systems so rapidly that there was no net energy 
output from the construction process at all. To illustrate, when the 
gross energy output from the entire national population of nuclear 
plants grows at 24 percent or more, there is no net energy output at 
all. To 1977, that gross energy grew at 38 percent: one reason why 
Project Independence became Project Dependence. 



15 

ENERGY CONSUMPTION BY CATEGORY 
AS A PERCENTAGE OF TOTAL U.S. ENERGY CONSUMPTION 




OIL 




GAS 




■69 YEARS 
■ 44 YEARS 



1800 



1820 



1840 



1860 



1880 



1900 



1920 



1940 



1960 



1980 



Figure 5. — The time it took to have each of coal, oil and gas supply 10, and 30 
percent of national energy consumption. 



16 



LOW-DENSITY METROPOLITAN AREA 



BEFORE 

INCREASE IN PRICE OF ENERGY 



DOLLARS 
PER PERSON 
PER YEAR 



AVERAGE INCOME 



AVERAGE COST OF LIVING 



MAXIMUM 
POSSIBLE 
AREA 



METROPOLITAN AREA (SQ. MILES) 



AFTER 

INCREASE IN PRICE OF ENERGY 



DOLLARS 
PER PERSON 
PER YEAR 



AVERAGE INCOME 




___— — — — — — ___ 


__---"^" 






__, ~~ ___--■" 


"^ 


v^-~~ __. — ~~ 


"*-»w 


















__~-~ 




__-~~~ 




__---"" 




AVERAGE COST OF LIVING 


MAXIMUM 




POSSIBLE 




AREA 


> 


r 



METROPOLITAN AREA (SQ. MILES) 

Figure 6— 6a. — A theory of the relation between average income, average cost of 
Jiving, city densit} and city area. Note that these relations determine the area 
of ;i city which is economically viable; also note that this maximum viable 
economic area shrinks in response to increasing energy prices. 



17 



HIGH-DENSITY METROPOLITAN AREA 



DOLLARS 
PER PERSON 
PER YEAR 



BEFORE 




INCREASE JN PRICE OF ENERGY 




y^ 

y 


AVERAGE INCOME 


/'AVER AGE COST 




y' OF LIVING 

\ 


/ y" 


\ 


y 


MAXIMUM 




POSSIBLE AREA 


V 



METROPOLITAN AREA (SQ. MILES) 



DOLLARS 
PER PERSON 
PER YEAR 



AFTER 






INCREASE IN PRICE OF ENERGY 




y 




y AVERAGE COST 


AVERAGE INCOME_ 


y 


OF LIVING 




\ 


MAXIMUM 
POSSIBLE AREA 

/ 



METROPOLITAN AREA (SQ. MILES) 
Figure 6a 



18 



SMSA 
AVERAGE 
PER CAPITA 
INCOME 
IN 1973 
(THOUSANDS 
OF DOLLARS) 



6.2 



5.8 



5.4 



5.0 



OVER 1000 PEOPLE 
PER SQUARE MILE 



300-1000 PEOPLE 
PER SGUARE WILE 



? 100 299 PEOPLE 
PER SQUARE MILE 



4.5 



4.2 




UNDER 100 PEOPLE 
PER SQUARE MILE 



2 4 6 8 10 12 14 

LAND AREA OF STANDARD METROPOLITAN STATISTICAL AREA 

(SMSA) INTHOUSANDS OF SQUARE MILES 

Figure 7. — Test of the notion that average incomes are related to city densities 
and areas, using Bureau of the Census data. Numbers above the lines indicate 
the number of metropolitan areas averaged to make each point in each line. 



19 



300 



AVERAGE 
GASOLINE 
CON- 
SUMPTION 
PER 

PERSON 
PER YEAR 
IN 

SMSA 
(GALLONS) 



290 








^ 


280 






^-^ 100-1000 PEOPLE 




270 




jX 


^.-"-""' PER SQUARE MILE 




260 










250 










240 










230 






OVER 1000 PEOPLE 








PER SQUARE MILE 




220 










210 










200 


v 










j 1 


2 


3 4 5 6 7 


8 



LAND AREA OF STANDARD METROPOLITAN STATISTICAL AREA 
(SMSA) IN THOUSANDS OF SQUARE MILES 

Figure 8. — Test of the notion that average living cost is affected by city density 
and area, using data from the Census of Retail Trade. The lines are drawn 
through points obtained by averaging data from a great many metropolitan 
areas. 

Argument 6: Cheap energy and the spatial design of American 
society. Cheap gasoline is encouraging American cities to develop a 
pattern of urban sprawl which builds a tremendous hidden transpor- 
tation overhead cost into all activities. But further, a great deal of 
the Nation's capital is being invested in a physical plant which will 
be difficult to maintain when the price of gasoline begins rising rapidly 
in response to worldwide increases in the cost of obtaining energy, an 
inevitable development once all cheap O.P.E.C. crude oil is depleted, 
in the late 1980's or early 1990's. Figure 6 presents a graphical theory 
showing how, in either high or low density cities, average cost of 
living rises with increased city area, whereas average incomes drop 
at very high city areas. Also, incomes rise as a function of city density, 
for any given urban area. The maximum possible size that a city can 
be is determined by the area at which the income and cost of living lines 
cross. For cities of all densities, this maximum possible area must drop 
when gasoline orice increases drive up the cost of living. Clearly, un- 
less gasoline prices are allowed to rise faster than the average wage 



20 

very shortly, the U.S. cities are going to get locked into a pattern of 
continuing sprawl that will be a terrible financial burden for everyone, 
once the inevitable future gasoline price increases do occur. Putting 
it differently, our cities are being encouraged to evolve in response to 
energy prices which are not an accurate reflection of the state of the 
world, but an artificial reflection created by interference in the free 
marketplace by Congress and the White House. 

Figures 7 and 8, based on analysis of data from the Bureau of Cen- 
sus, census of population and of retail trade in gasoline, show that the 
theory graphed in figure 6 does in fact describe the situation. In 
short, the federal government is now in the ironical position of en- 
couraging U.S. cities to evolve rapidly in the fashion of dinosaurs, 
which became extinct because they had adapted to an environment 
which did not last. Further, this inappropriate spatial design already 
is having a large, but veiled impact on the U.S. economy. The hidden 
transportation overhead on all transportation of goods and passengers 
affects our ability to compete in the international marketplace for 
manufactured goods with the other developed countries. This phe- 
nomenon is revealed when we conduct cross-sectional statistical 
analyses to discover the factors that determine the rate of growth of 
various economies. When we do this we discover that population 
density shows up as a beneficial factor in promoting economic growth. 
What this actually reflects is not a beneficial impact of high popula- 
tion density, but rather of hidden transportation efficiency and lowered 
transportation systems overhead when a society has a spatial design 
which promotes energy efficiency in passenger and goods movement. 
This efficiency is associated with short average distances for passenger 
and goods trips, both within and between cities. Particularly as trans- 
portation energy costs rise, the United States will only be able to 
compete with other nations manufacturing goods competitive with 
ours if our transportation energy efficiency is increased. One way to 
do this is to make our cities more compact. Otherwise, this Nation 
will have stumbled into a "systems trap" by failing to look ahead to 
the implications for the spatial design of society of higher future 
energy prices. 

There is a simple solution to all six of these problems. The United 
States currently has an overall policy of making low energy price a 
basic national policy, then allowing policy in every other policy area 
to follow from that. Thus, national agricultural policy, foreign 
policy, our strategies of international agricultural development, 
military policy and all other policies are determined by our commit- 
ment to cheap energy, no matter how much mischief results. Thus, 
for example, instead of shipping wheat, corn, soybeans and rice to 
ot her countries so we can raise the money we need to pay for imported 
crude oil, it would make far more sense for many other countries, 
particularly in the tropics, to shift from the growing of cash crops for 
export to us to growing wheat, corn, rice and soybeans. We would 
not have to export commodities to them if energy prices were high 
enough so that we could be self-sufficient in energy. Further, if 
countries were all more independent in agriculture, thus eliminating 
a lot of unnecessary agricultural shipments across the oceans, the 
whole world would be more energy-efficient. It would seem to be 
worthwhile to become energy-efficient now, voluntarily, through 



21 

wise planning, rather than waiting a few decades and having efficient 
use of energy forced on us, with some trauma, as worldwide depletion 
forces higher prices. 

It would make far more sense to have national agricultural policy 
be the basic policy from which all other policies flowed. In that case, 
we would determine a reasonable price to farmers for their produce, 
and a reasonable price for consumers to pay for food, and let national 
energy policy be determined by the free play of market forces, given 
national agricultural policy. The problem with present policy is that 
it has produced economic distortions simultaneously in farming, coal, 
oil and gas industries. This is, on the face of it, a remarkable state of 
affairs. Surely we can do much better. 



UNIVERSITY OF FLORIDA 



3 1262 09119 2590